The Economic Landscape
CBRE expects a moderate recession in the U.S. starting in late 2023 and extending into early 2024, which aligns with recent market trends. Rising interest rates coupled with 450,000 new multifamily units will likely reduce rental demand in the short term and push vacancy rates closer to 6% by year-end, according to Fannie Mae.
After peaking at 9.1% in 2022, inflation rates have stayed below 4% for the past three months and are projected by CBRE to end the year at 3.7%. Despite this progress, housing inflation has accounted for more than 70% of core CPI increases in 2023. This suggests housing prices will continue rising in 2024 but at a slower annual rate of 3.4% compared to steep increases seen in 2022.
When it comes to interest rate fluctuations, the Fed paused rates at a 22-year high of 5.25% to 5.5% in September, with plans for another hike this year and fewer cuts in 2024. These conditions will keep mortgages unaffordable and sellers reluctant to give up their 3% rate, so existing inventory for investment properties is expected to remain low.
Multifamily Real Estate Dynamics
Multifamily rent growth has slowed from record levels of 15.2% in 2022 to pre-pandemic averages of 2.6% in Q2 2023. Forecasts show negative rent growth of -2% in 2024, followed by a recovery the next year. While multifamily investing has a healthy long-term outlook, declining rents put pressure on valuations and net operating income.
Although multifamily cap rates are likely near their peak at 5.3%, Fannie Mae anticipates an increase between 5.5% and 6.2% in 2024. These increases are still outpaced by borrowing costs that are sitting comfortably above 7% for a 30-year mortgage—the highest rate in over 20 years. This imbalance can create negative leverage depending on the deal.
The market may show signs of distress in the latter half of 2023 as high borrowing costs and slowed rent growth continue to squeeze profit margins. Investors will need to assess the impact rate hikes will have on cash flow and debt serviceability. Factors like job growth and population trends can also determine how severely a particular market will be affected.
The market may show signs of distress in the latter half of 2023 as high borrowing costs and slowed rent growth continue to squeeze profit margins. Investors will need to assess the impact rate hikes will have on cash flow and debt serviceability. Factors like job growth and population trends can also determine how severely a particular market will be affected.